Do you speak XBRL?

The SEC has proposed that all filers use an electronic data tagging taxonomy for their financial statements

Going interactive with the data on public companies is a good thing, right?

Well, not everyone thinks so, and when the people who do not think so are CFOs, it is probably a good idea to pay attention. On May 30, 2008, the US Securities and Exchange Commission (SEC)proposed a rule that would require both US and foreign public entities that trade on US exchanges to file their primary financial statements using an XBRL electronic data tagging taxonomy. If the rule is adopted, large domestic and foreign accelerated filers (about 500 companies, with a market cap of $5 billion or greater) with fiscal periods ending on or after December 15, 2008, are expected to make disclosures in the eXtensible Business Reporting Language (XBRL) format beginning in the first quarter of 2009. Foreign filers using IFRS will follow suit in 2011.

According to a recent CICA Canadian Performance Reporting Board CPR Alert bulletin, six Canadian companies filing with the SEC under US GAAP have a market cap of more than $5 billion, while 11 others would be considered large accelerated filers. Another 434 Canadian companies, filing under US GAAP or under Canadian GAAP as foreign private issuers, should be affected by the proposed rule.

In layman’s terms, XBRL is an IT language, not unlike bar coding, developed specifically for the management of financial information. It is a method by which companies take the financial information now reported in a static format and make it interactive. For external users, XBRL will allow financial information to be extracted from the financials and compared instantaneously, potentially saving analysts, regulators and other reporting authorities considerable time, while creating a level playing field in terms of information access. In the words of XBRL International, a global not-for-profit consortium of companies and agencies devoted to promoting the adoption of the reporting language, “Human effort can switch to higher, more value-added aspects of analysis, review, reporting and decision-making. In this way, investment analysts can save effort, greatly simplify the selection and comparison of data, and deepen their company analysis. Lenders can save costs and speed up their dealings with borrowers. Regulators and government departments can assemble, validate and review data much more efficiently and usefully than they have hitherto been able to do.” (For a comprehensive account of the perceived benefits of XBRL see www.xbrl.org.) The US is not the first to take this bold step toward proposing XBRL as the global financial reporting language of the future. Equity regulators in China, Japan, Korea, Singapore and Spain have already mandated XBRL as the primary filing format. As of this year, all public companies in Japan were required to provide their company reports in XBRL. In Canada and elsewhere voluntary filing programs are in place, but their security regulators are taking a wait-and-see approach to mandating them.

Despite the efforts of XBRL International and others to educate the financial management community on the implications of XBRL, there are more questions than answers. Is this really the biggest thing in the US since EDGAR in 1996, or even the Securities Act of 1933, as some would suggest, or is it just another layer of complexity in financial reporting and assurance imposed on filers? Ultimately, why now, in the current climate of uncertainty surrounding the future of US GAAP? Is it the right time, or simply the right thing to do? Political puns aside, Christopher Cox, SEC chairman, has been a longtime proponent of XBRL and is determined to see it through. He also seems to have the backing of auditors, international accounting standards setters, stock exchanges, XBRL organizations, analysts and international securities regulators who say that XBRL will make life easier for everyone.

CFOs, however, are not convinced. In a recent letter to the SEC’s advisory committee on improvements to financial reporting, the US committee on corporate reporting of Financial Executives International (FEI) expressed its concerns that requiring filers to adopt XBRL now will result in increased costs with no improvements to internal processes. It concluded that until technology and software providers can come up with a tested solution to integrate operating and reporting information using the XBRL taxonomy, “the vast majority of SEC issuers will use a ‘bolt-on’ process [which simply adds the taxonomy to the finished financial reports] for the foreseeable future, yielding no benefits to preparers.” There is also a recognition that the world is going to IFRS, and although there is considerable overlap in the US GAAP/IFRS taxonomies, perhaps now is not the time to adopt the much larger US GAAP taxonomy. As most countries are adopting IFRS as the global reporting standard, the committee on corporate reporting suggests delaying the adoption of the US GAAP-specific XBRL taxonomy, or rather, recommends “appropriate sequencing of these efforts to allow companies to focus on convergence and avoid re-implementation of XBRL once international taxonomies are created that accurately reflect globally converged standards.”

Despite general agreement on the need for a cost-effective assurance model for XBRL, there are questions arising over what the ultimate role of the auditor will be in all this and what this will mean for audit fees. While there is no requirement at this time, will the SEC eventually mandate an auditor’s independent attestation on companies’ implementation of XBRL? Will this open a Pandora’s Box with respect to internal control certification and testing, or simplify it? In its May 25, 2005 Staff Questions and Answers Paper, the Public Company Accounting Oversight Board provided guidance on attestation engagements regarding XBRL financial information furnished under the XBRL voluntary financial reporting program on the EDGAR system. The guidance ties the examination of XBRL-related documents and processes to the audit of internal control over financial reporting. For now, the SEC has decided not to require an independent assurance process, and FEI US is in agreement. The FEI’s committee on corporate reporting points to the need for the audit of XBRL to stay where it is, saying that, with respect to assurance of tagged financial statements, “an independent assurance process would not only result in additional cost to investors, it would also add time to the preparation process between the tagging and reviewing of the financial statements and the filing of those statements.”

However, one question remains: does adding a layer of examination to the audit of internal controls over financial reporting add complexity and hence cost to the audit process? Mike Willis, partner at PricewaterhouseCoopers, second vice-chairman of XBRL International and former founding chairman of the organization, suggests it does not: “The level of rigour here is very similar to the level of rigour without XBRL. If you think of it, in a paper-based reporting process, we have to manually make these same kinds of assessments anyway. By standardizing the business-reporting supply chain through XBRL the process will eventually become more efficient, not more complicated.”

While this is yet to be seen once companies start filing en masse, there are several control issues that arise in an XBRL environment that suggest the role of the auditor will increase. These are highlighted in the following summary of the conclusions of a Canadian Institute of Chartered Accountants study prepared in May 2002: Audit and Control Implications of XBRL — Innovations for a Changing World. (For a more detailed version go to: http://www.cica.ca/multimedia/Download_Library/Standards/Studies/English/CICA-XBRL-0502-e.pdf.)

Assurance issuesThe objective of assurance with regard to financial statements developed using XBRL remains the same as in the case of other financial statements. Because the detailed procedures used to accumulate data are different, however, there may be a need to add procedures or to test the controls that are added to ensure that the XBRL tags maintain their integrity.

Financial statements generated at a point in timeWhen XBRL is used to generate financial statements at a point in time, the auditors’ focus must be on the additional procedures and policies required to implement XBRL. The controls in place in this respect would need to be reviewed. This would include a review of the controls over the use of an appropriate taxonomy, the tagging of data, and the integrity of the tagged data.

Ensure appropriate taxonomy being usedThe taxonomy being used must be appropriate to the intended use of the financial statements being produced.

Review tagging methodology — conduct completeness tests to ensure all relevant data are taggedOne of the audit concerns that would need to be addressed is whether all relevant data in the source records have been tagged. This would involve a review of the tagging system in software systems to ensure that new data elements or new accounts are included in the tagging process.

Test the tags in the instance documentsAnother concern of an auditor involved with XBRL-generated financial statements is whether the data are properly tagged. The concern here is that the data are those that should be included in a particular tag under the intent of the taxonomy being used.

So how can CFOs in the US make lemonade out of what could be considered as just one more basket of lemons dished out by the SEC? While it is generally agreed that adding another layer of work does little for the preparer, some suggest by regulating XBRL now the SEC has given the necessary push toward long-term efficiency enhancement. We know that securities regulation can give rise to both technology innovation and process improvement (witness SOX 404), and XBRL is expected to be no different. According to Tony Dimnik, professor of accounting at Queens University in Kingston, Ont., by proposing to regulate the use of XBRL, “the SEC has inspired service providers to develop the technology to support it, particularly companies like Clarity Systems that operate in the corporate performance management space. It has also created the impetus for filers to speed up the process — to capture the benefits sooner [rather] than later.”

A recent XBRL US report states, “Establishing a single- source system eliminates manual entry and improves consistency, reliability, accuracy and speed of reporting. Data that is created once within an entity can be retrieved for multiple reporting situations — for internal reporting to management, for the creation of the reports to the SEC, as well as the creation of reports to other regulatory agencies such as the Bureau of Economic Analysis and the Federal Deposit Insurance Corporation.”

So what is the price tag associated with all this connectivity? Taylor Hawes, controller of finance operations at Microsoft and former chair of the US committee on finance and information technology of FEI, says, “If you consider the full integration of XBRL into financial reporting systems, the costs of that implementation could be quite large.” At the same time there are risks associated with XBRL that stem from the current state of flux in financial reporting standards. “The risk is that the taxonomy or the technical specifications of using XBRL differ or become fragmented in the multiple reporting jurisdictions using XBRL,” he says. “That fragmentation will eliminate the value proposition and efficiency derived by that standardization. The consistency of the taxonomy is very important. At a fundamental level the interoperability of the IFRS XBRL taxonomy and US GAAP is essential. A company should be easily able to not only reconcile the differences in accounting, but also easily map the presentation and the taxonomy from one to the other.”

Perhaps Cox is right and XBRL’s time in the US has come. Most of the heavy lifting with SOX 404 has been done. IFRS ad-option isn’t there yet, giving financial executives time to focus on bringing the mechanics of financial reporting into the 21st century. North American financial executives, who only have a vague idea of what XBRL is, have been given a wake-up call.

However, the timing is not seen as right for everyone. Cameron McInnis, chair of the Canadian Securities Administrators XBRL working group, says, “For countries like Canada that are now converting to IFRS, public companies are focusing on the challenges of adopting a new accounting standard.” He adds that the CSA is in favour of moving to XBRL; it is just a matter of the timing. (XBRL will be mandatory in Canada after 2011.) He believes the move to XBRL and IFRS should be sequenced, with IFRS first, then requiring filings in XBRL. He also says the Ontario Securities Commission has a program where companies can file in XBRL, but it is voluntary, not mandated.

“The CSA believes that XBRL has the power to reduce cur-rent inequities in our capital markets. It has the potential to foster a level playing field of information and make a huge volume of information more manageable for investors and analysts. The CSA is committed to moving forward in the XBRL world alongside other international regulators such as the SEC,” says James Turner, vice-chairman of the OSC.

“We’re encouraging its voluntary use across Canada,” Turner says, “because we believe XBRL will benefit Canadian investors and Canadian capital markets. At the same time, the CSA is working on an approach to implement XBRL technology in a manner that is appropriate for our market. Our view is that Canadian regulators shouldn’t require the adoption of XBRL before IFRS is implemented in Canada. From our point of view, the right sequence of events for our capital markets is first to make the transition to IFRS then adopt XBRL as a mandatory requirement.”

Meanwhile, the rest of the world will most likely take note of what is happening in the US in anticipation of local securities regulators following suit. Technology companies, faced with the potential demand for integrated operations and reporting using XBRL, will move quickly to drive the adoption agenda, and governments will recognize the potential efficiencies of one source of interactive data for all. Examples can be drawn from Australia and the Netherlands, among others, where XBRL is being used across a wide range of federal and state agencies, providing an enabling platform for converging information for many uses.

Will these countries be left behind or benefit from the learning curve that the US is about to climb?

Time will tell.

More on XBRL

The CICA has published a research study, Interactive Data -- Building XBRL into Accounting Information Systems (2007). The principal author is Gerald Trites, FCA, CA•IT/CISA.

Ramona Dzinkowski is executive director for the Canadian Financial Executives Research Foundation in Toronto